The spotlight is now on Indonesian planters as brokers contend that Malaysian plantation companies are overvalued, trading at peak-ish price-earnings valuations while Indonesian planters listed in Singapore and Indonesia lag behind.

Those who missed the boat on the uptrend in Malaysian planters may want to consider looking at Indonesian planters, but with the CPO futures rally going into the ninth week as prices rose to a seven-month high of RM2,580 per tonne last Thursday, will latecomers to the party still get to enjoy the food and drinks or be left with just the crumbs?

Oil World, the Hamburg-based oilseeds publication, cautioned that mean prices of global oilseeds, edible oils and meals are susceptible to falls following their recent strength, a Reuters report said early last week. It warned of a high probability of a setback in the prices of vegetable oils, oilseeds and meals.

Indeed, despite the upgrades in their calls, plantation analysts have adopted a cautious stance.

CIMB Research Sdn Bhd, in a note to clients on April 17, says it has turned positive on CPO prices in the short term but is still projecting a decline in 2H2009. It raised its CPO price forecast and upgraded the regional plantation sector from “underweight” to “neutral”. The research house raised the Singaporean and Indonesian plantation sectors to “overweight” and “neutral” respectively, but kept its “underweight” call on the Malaysian plantation sector.

In a report dated April 22, HwangDBS Vickers Research Sdn Bhd wrote  that it is switching to discounted cash flow valuation from low-cycle PER valuations in arriving at target prices for plantation companies in its coverage. It believes another upcycle is underway as the risks of a sharp correction in CPO prices have evaporated. However, it cautioned against over-optimism.

“We should note that we are not in the extreme excess demand situation experienced in 2007. Near-term CPO price movements are bound to be choppy now that CPO has risen by 18.3% this month alone,” notes HwangDBS Vickers Research.

The research house has maintained its CPO price assumptions but turned positive on a handful of Singapore and Indonesian-listed plantation companies. The research house expects a narrowing of the valuation gap between Malaysian plantation companies and its Indonesian peers.
“Any CPO price easing in 2H2009 should affect those priced in high multiples more than laggards,” it adds.
An analysis of plantation companies listed on the three markets shows the likes of IOI Corp, Kuala Lumpur Kepong and Sime Darby at close to 17 times forward PERs while Singaporean and Indonesian plantation companies trade at less than 13 times.

But with CPO prices already above RM2,500, is there much upside left should investors buy into the Indonesian planters now? CPO for July delivery closed at RM2,580 last Thursday on the Bursa Malaysia Derivatives Exchange. It is worth noting that CPO’s discount to soyabean oil has been narrowing, indicating that there will be less switching to palm oil as prices have risen making it less attractive as a substitute for soyabean oil.

“In the event of a sharp correction, all will be hit, but valuation-wise, Indonesian planters still look a lot cheaper... they will probably be less impacted,” says Alvin Tai, senior vice-president at OSK Research Sdn Bhd.

Carey Wong of OCBC Investment Research says Indonesian planters would not be immune to a correction in CPO prices but the magnitude of the correction would differ depending on the stocks’ beta. He notes that the discrepancy in the valuation may be due to various factors and there would be slight differences in the characteristics of markets from country to country.

“In a perfect world, they should trade close to each other but maybe certain characteristics in the markets prevent them from doing so. The overall market may be different, which may account for why a particular stock always trades at a discount to that of a similar stock listed in another market,” he explains.

It would be important to analyse if the Indonesian planters are trading at below the historical discount to Malaysian planters, Wong adds.

The risks of investing in Indonesian planters rather than their Malaysian peers are definitely higher, says Tai. For one, it is more complicated to obtain land titles in Indonesia. Furthermore, plantation companies are required to develop estates to be operated by smallholders under what is known as “Plasma schemes”.

Secondly, oil production can be quite volatile in Indonesia, Tai says.

“They are typically worse hit than us whenever there’s a drought,” he explains.

Having said that, a lot of the larger Malaysian planters that expanded aggressively in Indonesia are exposed to similar risks. Also, while Indonesian planters stand to benefit from lower labour cost and better soil quality, they lose out in terms of infrastructure and R&D.

Accounting treatments may also differ between countries. For example, Singapore adopts IAS 41 which requires annual valuation of biological assets but this is not applicable in Malaysia where these assets are carried at book value. Analysts say this is not a major concern given that it is a non-cash item.   

For now, there appears to be no stopping the upward momentum in CPO prices. For futures trader Donny Khor of OSK Investment Bank Bhd, the RM2,650 to RM2,750 level will be the next target for the July contract. He notes that palm oil stock levels remain low while oil production is not rising fast enough.

“Stock levels may pick up in May but it may not be aggressive based on what planters say. Chart-wise, there are no signs of weakness. The market is still in an upward momentum after breaking RM2,500,” he says.

With rising risk appetite and the potential for CPO price strength to be sustained, the new darlings in the plantation universe may well be the Indonesian stocks.

This article appeared in Corporate page of The Edge Malaysia, Issue 752, April 27-May 3, 2009.